Equivalent risky allocation: The new ERA of risk measurement for heterogeneous investors

This paper introduces an investor-specific risk measure derived from the linear-exponential (linex)utility function. It combines the notions of risk perception and risk aversion. To make thismeasure interpretable and comparable with others like variance or value-at-risk, it is translatedinto an Equivalent Risky Allocation (ERA), where the risk value is matched with the one of a selectedbenchmark. We demonstrate that portfolio allocations are sensitive to risk perception. Thelinex risk measure provides more stable allocations and is closer to the target risk profile than thevariance, while it provides better consistency of risk exposures over time than the value-at-risk.Data source: none